2017 ISS Policy Survey Results

MorrowSodali

ISS released its 2017 policy survey on August 2, 2016. As a follow up to that event, ISS recently released the results of that survey, which we have reviewed and summarized below.

ISS received 439 responses this year compared to 421 responses the previous year. 270 responses came from corporate issuers, 120 responses were received from institutional investors, with the remaining responses collected from investment banks, corporate board members and consultants. In line with previous years, ISS expects to publish a draft of its 2017 policy updates and commence an open comment period at the end of October. According to its report, ISS expects to release the policy updates in mid-November and go effective with revised policies on February 1, 2017.

As we noted in our previous Proxy Update, the survey results are more directional in nature and, ultimately, topics covered in the survey may not be addressed in ISS’ 2017 voting policy update. Conversely, issues not addressed in the survey may surface during the comment period. It is safe to say the survey results provide a window into what may be on the minds of the proxy voting groups at institutional investors.

Overboarding – With regard to overboarding, the survey asked whether respondents felt the overboarding policy that applies to a firm’s CEO (no greater than three total board seats), should apply to an executive chairman who is not the CEO; or whether the current policy should apply (that is, that a non-executive director should sit on no more than five boards). 38% of respondents who are not investors preferred that the more lenient policy (no more than five) apply, while 62% of investors opted for the more restrictive policy (no more than three). Comments from investors included some respondents supporting a policy even more prescriptive and others stating that since the roles of an executive chair are not always clear from issuer to issuer, shareholders may have a difficult time making a decision.

Pay-for-Performance (P4P) Metrics – ISS’ P4P modeling includes TSRs over multiple periods of time to identify misalignment between CEO pay and company performance. This survey question asks whether or not respondents would support ISS including other financial metrics into their modeling screens and if so, which two metrics are appropriate:

Revenue metrics (such as total revenue or revenue growth),

Earnings metrics (such as EPS or EBITDA),

Return metrics (such as ROA or ROE),

Return on investment metrics (such as ROIC),

Cash flow metrics (such as OCF or FFO),

Economic profit metrics,

Or other metrics, and if so, which ones.

79% of investor respondents answered they support the inclusion of additional metrics, 19% indicated they were neutral on the proposed idea and 3% were opposed or strongly opposed. Of the respondents that were neutral, 47% supported ROIC as a metric to include and 35% chose ROA or ROE as a possible metric. 42% of the non-investor group support or strongly support, 26%, the use of metrics other than TSR in the P4P screening, 21% were neutral and 11% opposed or strongly opposed the idea. Earnings metrics, revenue metrics and ROI metrics were favored by the respondents that selected “neutral.”

Director Tenure – The third survey question related to board refreshment; ISS asked respondents if any of the below listed factors raise concern with an issuer’s “nominating and refreshment processes.”

The lack of newly appointed board members (e.g. five years),

Lengthy average director tenure (e.g. average board tenure greater than 10 years or 15 years),

A high ratio of long-tenured directors (e.g. three-fourths of the board having served 10+ years).

53% of respondents among the investor group noted the lack of newly appointed independent board members as a concern, 51% stated lengthy average director tenure as an issue and 68% believe a high ratio of long-tenured directors as problematic. Investors noted in the comments that a high degree of overlap between CEO tenure and the tenure of non-executive directors as a concern. 26% of non-investors flagged the lack of new independent board members as a concern; 19% noted lengthy average director tenure as an issue; 34% identified a high ratio of long-tenured directors as an area of concern while 34% of non-investor respondents noted that tenure is not a concern. In the comments section, several issuer respondents stated they felt long tenure as a board member is beneficial to the board and the lack of experience could be more of a concern than long tenure.

Maryland REIT Law – Question 4 of the survey surrounded Maryland REIT law. ISS noted that Maryland REITs make up approximately 80% of all publicly-traded REITs in the U.S. Under Maryland REIT law, boards have the authority to amend the bylaws and increase authorized shares without shareholder approval. The survey asked whether or not ISS should issue a negative recommendation against Maryland incorporated REIT directors/trustees who have not opted out of these provisions in their bylaws, and if so, should the governance committee chair, the governance committee as a whole, a separate subset of nominees, the full board or no board members receive that negative recommendation. 18% of respondents from the investor group support negative recommendations on the chair of the governance committee, while 34% support negative recommendations against the entire governance committee and 25% would support a negative recommendation against the entire board. 15% of investors do not feel a negative recommendation is necessary. As for the non-investor group of respondents 52% believe no negative recommendations are necessary while 9% support recommendations against the chair of the governance committee, 8% against the entire governance committee and 11% against the entire board.

Maryland Unsolicited Takeover Act (MUTA) – MUTA gives the board authority to make changes to a company’s capital structure and the bylaws/charter without shareholder approval, including but not limited to:

the ability to re-classify a board;

the exclusive right to set the number of directors;

limiting shareholders’ ability to call special meetings to a threshold of at least a majority of shares.

The survey asked whether ISS policy should recommend a vote against directors at companies who have not opted out of MUTA, and whether it should be the governance committee chair, the entire governance committee, some other subset of directors, the full board, or no board members. 20% of the investor group respondents would support negative recommendations on the election of the governance committee chair, 31% would support a negative recommendation against the entire governance committee and 27% stated support of a negative recommendation on the entire board. 15% of this group did not feel a negative recommendation should be issued and 6% would support a different approach entirely. 56% of the non-investor group feel no against/withhold recommendation should be issued.

Dual-Class Structure – ISS will generally recommend a vote against/withhold on directors at newly public companies, or companies emerging from bankruptcy, that have bylaws that ISS deems to be unfriendly to shareholders, such as a classified board or supermajority vote requirements. ISS’ survey asked if respondents believe ISS should issue a negative recommendation on the election of directors at IPO companies, or those emerging from bankruptcy, that have a stock class structure with unequal voting rights. 57% of responses from institutional investors support a negative recommendation, 19% opposed the potential policy and 24% oppose a negative recommendation as long as the unequal voting rights have a sunset provision. Among the group of non-investor respondents, 46% outright oppose a negative recommendation on directors, 31% oppose a negative recommendation if a sunset provision is included on the unequal voting rights. 24% do support a negative recommendation.

Say-on-Frequency – Say-on-Frequency will be a ballot item for many companies at their 2017 annual meeting and ISS asked how institutional investors will vote on this proposal: annual, biennial, triennial, or “it depends” with a follow-up question requesting more detail. 66% of investor respondents prefer annual say-on-pay votes, 11% chose biennial and 7% selected triennial. The balance of investor respondents, 17%, felt the frequency of say-on-pay votes should be company specific based on financial performance and the presence or lack of problematic compensation practices. 42% of non-investors selected annual votes, 7% chose biennial and 19% selected triennial. 31% of this respondent group feels the frequency should depend on company specific factors such as the level of support at previous meetings and concerning pay practices.

Cross-Border Executive Pay Assessments – The next question considers an increasing number of companies that are incorporated in one country and listed on an exchange in another. ISS currently reviews compensation proposals “under the policy of the country whose laws or listing rules require the proposal to be put to a vote, but generally aligns the vote recommendations of the proposals based on the policy perspective of the country in which the company is listed.” ISS questioned whether proxy voting personnel believe that A) Vote recommendations should be aligned so conflicting recommendations are not given or, B) If a company is incorporated in the U.K but listed in the U.S., for example, conflicting recommendations may occur (let’s say for in the U.K. and against in the U.S.) Is it acceptable to have opposing vote recommendations if each reflects the underlying policy of the relevant country? 65% of investor respondents answered that the vote recommendation should be aligned while 27% feel differing recommendations would be fine. The balance believe a different approach should be taken such as analyzing the proposal using the policies of the market where the executives are based. Among the non-investor group 59% responded that the recommendations should be aligned and 28% would accept differing recommendations. The remaining respondents chose “other” or did not select an answer for this question.

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As noted previously, we expect to see the policy updates released and comment period commence at the end of October. We will circulate the updates and information regarding the comment period should you wish to participate.

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Please contact your Morrow Sodali representative if you have any questions or if you would like the full ISS survey results document.

This newsletter is provided as a service to our clients and other friends of Morrow & Co. The enclosed material is being provided for informational purposes only and is not intended to provide advice for professional, legal or other purposes. If you have any comments or questions on these subjects or wish discuss our services, please call your contact at Morrow & Co. If you wish to remove your name from mailing list or receive this newsletter via email, please send an e-mail to: proxyupdate@morrowco.com.

Topics

Institutional Investors with assets under management of USD 31 trillion want more detailed disclosure from portfolio companies about their boards of directors, business strategy and ESG, according to Morrow Sodali’s annual Institutional Investor Survey, released today. The survey highlights three areas of concern for investors looking ahead to the 2018 annual meeting season:

Clear articulation of a company’s business strategy and goals;

Directors’ skills, qualifications, experience and individual contribution to the effectiveness of the board;

Detailed business rationale for board decisions and their alignment with strategy and financial performance.

The Morrow Sodali survey, the third of its kind, was conducted between November and December 2017. Forty-nine global Institutional Investors, with USD 31 trillion of assets under management, responded to the survey.

Institutional Investors will be increasingly likely to support a credible activist story.

ESG issues are either fully integrated or progressing towards full integration with investment decision-making.

Investors will seek enhanced disclosure around materiality and sustainable metrics linked to long-term business strategy.

Kiran Vasantham, Director of Investor Engagement, said “Now in its third year, this survey provides issuers with valuable insights on investor expectations. It is a bellwether for all companies as we enter the 2018 Annual Shareholder Meeting season. I am delighted so many investors took part in the survey, as it provides an important overview of asset managers’ priorities on a broad spectrum of ESG issues.”

Morrow Sodali has further strengthened its position as Australia’s leading Shareholder Engagement and Corporate Governance Advisory firm following the appointment of prominent Sydney-based governance specialist, Jana Jevcakova.

Ms Jevcakova is one of Asia-Pacific’s leading experts in corporate governance and proxy research, having spent the last seven years advising domestic and global institutional investors whilst engaging with company boards around ESG matters.

“Corporate Governance has become a core focus for both directors and management alike, and Jana’s recent work leading the research efforts at CGI Glass Lewis further enhances our unparalleled depth of knowledge and specialist expertise in this area,” Mrs Leftakis said.

“I’m very excited to be joining Morrow Sodali at a time when investors are taking a more hands-on approach towards Environmental, Social and Governance (ESG) related issues and the market is buzzing with the word culture. I look forward to supporting Morrow Sodali’s clients and further building on our reputation as trusted advisors,” Ms Jevcakova said.

Shareholder engagement is one of the most significant recent developments in the area of corporate governance. It covers the intense and regular dialogue taking place between issuers and their investors on topics related to the way a company is managed (composition and role of the board, balance of power, executive compensation, etc.), more particularly in the context of the preparation of the shareholders’ annual general meeting.

Fostered by the European regulation (directive on shareholders' rights), this dialogue is part of the business logic of large institutional investors whose index strategy or the importance of investment stakes do not allow them to sell their shares easily. Favoring "voice over exit," their goal is to encourage issuers to put in place effective governance mechanisms to protect the long-term interests of shareholders.

The intensity and content of this dialogue are still heterogeneous, but a positive dynamic is underway. Investors are beefing up (or create) specialized governance teams capable of developing independent views (which could diverge from recommendations provided by proxy advisors) on how companies are governed. The best in class companies contribute to the training and the experience of the investment professionals by the quality of the dialogue which go beyond a reformulation of the characteristics (often stereotyped) described in the official documents.

No-one can deny that the seasons are changing, but the impact climate change has on business also needs to be acknowledged and factored into the C-suite's decision-making. The Taskforce on Climate-related Financial Disclosures has galvanised debate on how businesses should measure and disclose their risks.

The TCFD is now widely accepted as a leading framework CEOs can use to report the potential positive and negative financial impacts their activities may cause to the environment.

While the taskforce is a step in the right direction, according to ratings agency MSCI ESG Research, only 60 per cent of companies report Scope 2 greenhouse gas emissions, which are indirect emossions from the generation of the electricity purchased and consumed by an organisation. So there's still a long way to go.

Michael Chandler, Governance Director of corporate governance consultancy Morrow Sodali, says the CEO needs to be involved in the stakeholder engagement process the company conducts when assessing the materiality of environmental risks and opportunities.

"Where most CEOs go wrong is by looking at how other companies report these risks, which is not a very good strategy. In the first instance, they need to do a thorough assessment of the company's individual risks, which requires considerable input from shareholders and key stakeholders such as customers, suppliers and environmental groups," Chandler commented.

Shareholders and proxy advisors are becoming more vocal, engaging with ASX-listed companies on the suitability of non-executive directors. A growing proportion are critiquing the performance and accountability of directors, particularly where there are alleged breaches of conduct or the company is underperforming.

The responsibilities of non-executive directors are both varied and increasing, so it’s difficult for investors to establish a standardised approach to evaluating board performance. Non-executive directors classified as ‘independent’ may not be socially independent from their colleagues, which may impact their ability to perform their duties without prejudice1. Shareholders continue to lack clear insight into the inner workings of boardroom dynamics, hence their characterisation as ‘black boxes’. More than ever, the investment community and broader corporate governance stakeholders are demanding a deeper understanding of the factors that influence board interactions and decision making. Consequently, strong disclosure around board performance, skills, experience and succession planning initiatives is critical.

The ACCR is a not-for-profit organisation that conducts research on issues of corporate behaviour and assists its members engage with companies on issues that concern them. The ACCR has previously led several public campaigns against large Australian listed companies, generally seeking increased disclosure around human rights and environmental-related issues.

Can you explain what the ACCR does and where the group fits amongst broader corporate governance stakeholders in the Australian market?

ACCR pursues and promotes improvements to large, Australian-listed companies’ environmental, social and governance (ESG) practices. Our power to influence corporate behaviour is premised on two central ideas:
- that a company’s negative impacts on the environment and society can also undermine that company’s interests, and the interests of its shareholders; and
- that although listed corporations are primarily representative democracies, they are also to some extent, participatory democracies.

Given the influence of corporations on our lives and our planet, shareholders have a unique role and responsibility in ensuring the sustainability of our future. The ACCR was established to strengthen responsible investment practices in Australia to this end.

The ACCR does research on ESG issues and engages with listed companies in relation to specific ESG risks. We use shareholder resolutions to escalate engagement with companies, particularly where private investor-corporate engagement has failed to deliver an outcome. Shareholder resolutions are commonplace overseas but are an under-utilised mechanism in Australia. Resolutions are not deployed in every engagement we do, but on some issues, they have proven to be the most effective tool available.

While voting against director re-election or the remuneration report is not uncommon in Australia, these actions are not well tailored to highlighting environmental, social or policy content related governance issues. In many situations, shareholder resolutions are a better way to address ESG underperformance.

Listed companies are feeling the heat from big super funds and global investors to embrace action on issues such as climate change and diversity.

It’s become a critical issue for listed companies and an ASX roundtable discussion - which saw the participation of Michael Chandler, Governance Director Morrow Sodali Australia - explores the best way to respond to this pressure.

Together with other four distinguished representatives from Regnan, MSCI ESG Research, CGI Glass Lewis and AMP Capital, Michael Chandler talked about topics such as environmental and social reporting, ESG discussions within listed companies, activists' engagement etc...

"Responding to activists and their requests is taking up corporates’ time. The primary request we’re seeing revolves around the impact of climate change. The broader expectation, consistent with recommendations from the Task Force on Climate-related Financial Disclosures (TCFD), is providing more foresight into, and forward modelling and scenario analysis around, the resilience of asset portfolios over the long term. Companies we work with are struggling to gather the data and then figure out how transparent they wish to be in disclosing and quantifying their environmental impact over the long term," commented Michael Chandler when asked about what are the hot button issues for corporates in relation to environmental and social reporting.

Download the attachement below to read the entire roundtable discussion.

Morrow Sodali is a global consultancy providing comprehensive governance and shareholder services to corporate clients around the world. Our knowledge of the issues covered by the implementing regulation is rooted in the nature and scope of the services we provide in the course of our work with more than 700 listed companies operating in 40 different markets.

Morrow Sodali's comments reflect the insights we gain from working not only with EU companies but with companies based outside the EU. In addition, we engage regularly on behalf of our clients with stakeholders whose interests are affected both directly and indirectly by the Commission’s regulations. These stakeholders include: institutional investors, both local and global; shareholder organizations and membership groups; proxy advisors; activists; NGOs and special interest advocates; and other constituents whose engagements with companies utilize regulated channels of communication and share voting.

Finally, our comments reflect our firm’s uniquely global structure and the range of advisory and transactional services we provide to companies and boards of directors in their dealings with these diverse entities.

After attending Morrow Sodali's seminar on Corporate Governance at the recent IOD Open House event, Sue Lawrence of TMF Group wrote an article on the mechanism of robust corporate governance and on the panel's focus on "What is good Corporate Governance?"

Amongst the wide-ranging discussion, panellists reflected on the ongoing importance of the UK Governance Code. As part of its most recent review in April 2016 the original definition in 1992 by the Cadbury Committee was reiterated that:

“Corporate governance is the system by which companies are directed and controlled. Boards of directors are responsible for the governance of their companies … The responsibilities of the board include setting the company’s strategic aims, providing the leadership to put them into effect, supervising the management of the business and reporting to shareholders on their stewardship…”

Whilst specifically applicable to companies listed in the UK, its use underpins robust corporate governance across all companies. Even fast growing new startups need to have a semblance of corporate structure, leadership, oversight and evidence as they continue on their successful path. This becomes particularly important if external funding is sought to further grow the business and to meet regulatory oversight requirements.

Investa Listed Funds Management Limited, the responsible entity of Investa Office Fund (ASX: IOF), announced a proposal to acquire a 50% shareholding on a joint venture basis in Investa Office Management Pty Limited. The vote to approve the proposal was held on 31 May 2017.

Macmahon Holdings Limited (ASX: MAH) announced that it has signed binding documentation to implement a potentially transformational transaction with PT Amman Mineral Nusa Tenggara. It is currently anticipated that completion will occur in July 2017.